WSJ: Baby Boomers Find 401(k) Plans Fall Short

The Wall Street Journal is reporting that the median household headed by a person aged 60 to 62 with a 401(k) account has less than one-quarter of what is needed in that account to maintain its standard of living in retirement.

Using data from compiled by the Federal Reserve and analyzed by the Center for Retirement Research at Boston College, it shows most 401(k) participants do not have sufficient savings for retirement.  Facing shortfalls, many people are postponing retirement, moving to cheaper housing, buying less-expensive food, cutting back on travel, taking bigger risks with their investments and making other sacrifices they never imagined.

“Inevitably, we find that, for the average person, there is not enough there,” says financial adviser Paul Merritt of NTrust Wealth Management in Virginia Beach, Va., who has found himself advising many retirement-age people with too little savings. “The discussion turns out to be: What kind of part-time work do you want to do after you retire?”

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This analysis uses estimates of 401(k) balances from the end of 2010 and of salaries from 2009. It assumes people need 85% of their working income after they retire in order to maintain their standard of living, a common yardstick.

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Retiring Boomers Find 401(k) Plans Fall Short

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  • 401(k) plans were originally designed as a way that lower compensated employees could create their own deferred compensation plans. They were designed to supplement pension plans, not replace them. In a defined benefit plan, the risk of loss and the benefit from gain due to investments lie with the employer; while with defined contribution plans, the employees enjoy the benefits from investment gains and suffer the detriments from investment loss.

    The first 401(k) addendums were those permitted not only on defined contribution plans but also on pre 1980 type defined benefit plans. They did a great job of supplementing employer pension benefits. But once again they were never designed to replace employer retirement benefits.

    In the 80s defined benefit plans became terribly expensive. With drops in the values of assets typically used in employer plans, they became underfunded. In deference to private sector employers, the IRS began allowing more and more such employers to amend their defined benefit plans to look more like defined contribution plans. Because public sector employer pension plans are generally immune to many of the more draconian aspects of federal pension laws particularly those related to funding, government employers were loath to change.

    With the advent of the dot coms, the markets took off in the early 90s. Employees who were participants in defined benefit plans realized their account balances were no different as a result yet those employees with defined contribution plans saw sharp increases in their vested interests. Not fully realizing the impact which would take place later, employees in the private sector encouraged the demise of defined benefit plans in favor of defined contribution plans particularly profit sharing plans with 401(k) features.

    In the late 90s as the dot coms began to unravel, many retirees and participants in defined contribution plans suffered immense losses. At the peak the Dow was over 14,000 and the NASDAQ, over 5,000. Neither exchange has fully recovered from the devastation which took place over a decade ago. Many of the retirees back then are still waiting for their defined contribution account balances to return to their former vested balances.

    So why is it so surprising that 401(k) plan account balances plus Social Security benefits are insufficient to adequately provide for retirement in an age of ever growing longevity? Once the responsibility for retirement income passed from private sector employers (a short three decades) once again to their employees, the result could not be for the better. Just compare retirement income of public sector retirees to their counterparts in the private sector. The difference could not be clearer.

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